Tuesday, October 29, 2013

In its recent decision in Clark School for Creative Learning, Inc. v.
Philadelphia Indemnity Ins. Co., 2013 U.S. App. LEXIS 21568 (1st
Cir. Oct. 23, 2013), the United States Court of Appeals for the First Circuit,
applying Massachusetts law, had occasion to consider the application of a known
circumstances exclusion in a directors and officers policy.

Philadelphia Indemnity Insurance
Company (“PIIC”) insured the Clark School (the “School”) under a claims made
and reported D&O policy issued for the period July 1, 2008 to July 1,
2009.The Clark School is a non-profit,
private school located in Danvers, Massachusetts. In May 2008, as a direct
result of the School’s precarious financial difficulties, the School received a
$500,000 donation from a family of three enrolled students, subject to the
conditions that the family would receive a security interest in the land on
which the School is located and that the funds would be used to construct a new
high school.The donation was reflected
in a financial statement published prior to the inception date of the PIIC
policy.In May 2009, the family sued the
School and its director for failing to satisfy these conditions.It was alleged that the School’s director
caused the School to pay $175,000 of the donated funds to his own mother and
sister “purportedly for the repayment of loans.”

[T]he
Underwriter shall not be liable to make any payment for Loss in connection with
any Claim made against the Insured based upon, arising out of, directly or
indirectly resulting from or in consequence of, or in any way involving any
matter, fact, or circumstance disclosed in connection with Note 8 of the
Financial Statement . . . submitted on behalf of the Insured.

Note 8 of the financial statement
referred to in this exclusion specifically described the School’s financial
difficulties and the $500,000 donation:

Subsequent to
the date of the accompanying financial statement, in May of 2008 the School was
a recipient of a major gift totaling $500,000 (see Note 7). The donation is unrestricted
and will be used to support the School's general operations as management's
plans for the School's future are implemented and allowed time to succeed.
Management feels that its plans and the subsequent major gift will enable the
School to operate as a going concern.

Note 7, referenced in this
paragraph, made further reference to the $500,000 donation.

PIIC disclaimed coverage to the
School for the underlying suit on the basis of this exclusion, and in the
ensuing coverage litigation, the United States District Court for the District
of Massachusetts ruled in PIIC’s favor.On
appeal, the School argued that the exclusion should be read to relate solely to
the School’s financial difficulties and not to and claims involving the
donation.The School also argued that
various rules of contract construction, including the concept of reasonable
expectations, required a more limited reading than applied by the lower court.

The First Circuit disagreed with
the School’s arguments regarding the exclusion, observing that it was plain and
unambiguous on its face.With respect to
the School’s argument that the exclusion should be limited to financial
difficulties alone, the court concluded that the reference in Note 8 to $500,000
donation, as well as to Note 7, which also described the donation, indicated
that the exclusion could not be read as being limited to losses resulting from
the School’s financial difficulties.The
court also rejected the School’s argument that the phrase “in any way
involving” as used in the exclusion must include a “causal element,” and that
the underlying loss was not caused by the donation.The court the phrase “in any way involving”
to represent “a mop-up clause intended to exclude
anything not already excluded by” the other terms of the exclusion.Regardless, the court held that even if a
causation element was required, this was more than satisfied as the underlying
loss was caused by the School’s misrepresentations concerning the donations.Finally, the court rejected the School’s
reasonable expectations argument on the basis that the exclusion was not
ambiguous and that there could be no reasonable uncertainty as to what its
scope.

Thursday, October 24, 2013

In
its opinion in Owners Insurance Company
v. Jim Carr Homebuilder, LLC, 2013 Ala. LEXIS 122 (Ala. Sept. 20, 2013),
the Supreme Court of Alabama the court had the occasion to consider what
constitutes an “occurrence” as defined under a CGL policy in the context of a
construction defect claim.

Thomas
and Pat Johnson hired JCH, a licensed homebuilder, to construct a new home in
January 2006. Within a year of completion the Johnsons noticed several issues
with water leakage which resulted in damage to other parts of the home. After
JCH’s attempts at remedying the water infiltration issues were unsuccessful,
the Johnsons sued for breach of contract, fraud, and negligence. JCH promptly
tendered its defense to Owners Insurance Company, its general liability
insurer. Owners provided counsel under a reservation of rights. After the dispute
between the Johnsons and JCH was settled through arbitration, the trial court
granted JCH’s motion for summary judgment holding that Owners policy covered
the entirety of the arbitrator award.

On
appeal, Owner’s argued that the property damage was not an “occurrence” as
defined in the policy and as such no coverage would apply. In accordance with
previously established principles, the court noted that whether faulty
workmanship constitutes an “occurrence” depends on the nature of the damage
caused by the faulty workmanship. On its own, however, faulty workmanship is
not an “occurrence.”The court further
clarified that “faulty workmanship performed as part of a construction or
repair project may lead to an occurrence if that faulty workmanship subjects
personal property or other parts of the structure outside the scope of that
construction or repair” to harmful or damaging conditions.

The
court differentiated between instances in which a contractor is retained to
perform work on an existing structure and the existing structure is damaged,
and when a new structure is built and defective work results in damage to the
new structure.Where the contractor is
hired to construct the entire structure, and a claim for damage to that
structure results from the contractor’s defective work, the contractor is not
entitled to coverage as the claim does not constitute an “occurrence.”

Tuesday, October 22, 2013

In
its recent decision in Public Risk Mgmt.
of Fla. v. One Beacon Ins. Co., 2013 U.S. Dist. LEXIS 150091 (M.D. Fla.
Oct. 18, 2013), the United States District Court for the Middle District of
Florida had occasion to consider whether a breach of contract claim can constitute
a professional liability claim.

Public Risk Mgmt concerned coverage for a
payment dispute arising out of a construction contract entered into between the
City of Winter Garden (“Winter Garden”) and a contracting entity named Dewitt involving
utility relocation along a Florida highway.The contract called for Winter Garden to pay certain amounts for Dewitt
completing the work within an established timeframe.During the course of the contract, Dewitt
encountered conditions out of its control, some of which was attributable to
Winter Garden having provided incomplete information concerning the scope of
work involved, that made it impossible for Dewitt to complete the project on
time.Upon completion of the work,
Winter Garden withheld a portion of the contract funds from Dewitt, prompting
Dewitt to file suit for breach of contract and for violation of Florida’s
Sunshine Statutes.

Public Risk Management of
Florida (“PRM”) insured Winter Garden under a public official’s errors and
omissions liability policy.The PRM
policy insured against “wrongful acts,” defined as “any actual or alleged error
or miss-statement, omission, act or neglect or breach of duty due to
misfeasance, malfeasance, and nonfeasance . . . .”OneBeacon, in turn, reinsured the PRM
policy.

PRM provided Winter Garden
with a defense in the Dewitt lawsuit, and paid some $286,000 in legal fees
before the matter settled.PRM then
sought reimbursement of these defense costs from OneBeacon under the
reinsurance contract.OneBeacon,
however, denied any payment obligation to PRM, contending that PRM should not
have defended Winter Garden in the underlying lawsuit since a breach of
contract claim is not covered under a professional liability policy.OneBeacon also asserted that coverage was
unavailable to Winter Garden based on a policy exclusion in the PRM policy
applicable to intentional breaches of contract.PRM contended that its policy was triggered as a result of the following
assertions in Dewitt’s complaint:

19.
Performance of Dewitt's work was far more time-consuming and costly than Dewitt
reasonably could have anticipated at the time of contracting as a result of
errors and omissions in the City's plans and specifications and the City's
engineer's gross under-estimate of quantities of various items, Dewitt would be
required to furnish.

***

24.
Dewitt would have timely completed its Work but for the City's misleading
information about the utility locations, errors and omissions in the City's
plans and specifications, and other hindrances attributable to the City, the
FDOT Contractor, and/or other third parties.

PRM contended that these two
paragraphs expressly alleged wrongful acts by Winter Garden in connection with
its planning of the construction project, and that these wrongful acts are what
gave rise to the contract dispute.

The court rejected PRM’s
argument, explaining that the two paragraphs in the complaint on which PRM
relied had to be read in the context of the entire complaint, which at its core
was a simple payment dispute rather than a claim for any professional
negligence.As the court explained:

The
FDOT Project was alleged to have been more complex than originally thought,
partly due to information from and actions by Winter Garden. Dewitt alleged it
could not finish on schedule and that the materials and labor costs increased
due to forces outside of its control, therefore, it claimed that it was owed
additional funds under the terms of the Construction Contract. All of Dewitt's claims in Count I relied on
the Construction Contract as the basis for Winter Garden owing it additional
money, Dewitt did not rely on negligence.

The
court, therefore, concluded that the Dewitt complaint did not allege loss
arising out of a “wrongful act” that came within the PRM policy’s
coverage.In passing, the court also
noted that the policy’s exclusion applicable to intentional breach of contract
served as a secondary basis for noncoverage since the Dewitt complaint alleged
that Winter Garden intentionally refused to pay money owed under the
construction contract.

Friday, October 18, 2013

In
its recent decision in Star Ins. Co. v.
Bear Prods., Inc., 2013 U.S. Dist. LEXIS 148559 (E.D. Okl. Oct. 16, 2013),
the United States District Court for the Eastern District of Oklahoma had
occasion to consider the coverage afforded under a pollution buy-back
endorsement.

Star
Insurance Company insured Bear Products under a primary general liability
policy as well as an umbrella liability policy.Bear was named as a defendant in a class action lawsuit alleging
personal injury and property damage resulting from exposure to “produced fluid waste,”
described as waste fluids and solids generated as a result of oil and gas
drilling operations.Specifically,
produced fluid waste is described to include “saltwater, sand, acid, oil-based
drilling fluids, water-based drilling fluids, completion flowback fluid, frack
flowback fluid, workover flowback fluid, rainwater gathered on drilling and
productions sites, drilling cuttings, pit water, including frack, mud,
circulation and reserve pits, and numerous other fluids and solid wastes
generated during the exploration and completion of oil and gas wells.”Bear Products was identified as having transported
produced fluid waste to a disposal pit located in the vicinity of the plaintiff
class.

Both
the primary policy and umbrella policies issued by Star Insurance contained a
total pollution exclusion.The primary
policy also contained an endorsement giving back limited pollution liability at
designated well sites for bodily injury, property damage or environmental
damage caused by a “pollution incident.” The endorsement set forth the
following limitations on coverage:

This insurance applies to "bodily injury",
"property damage", and "environmental damage" only if:

(1) The
"bodily injury", "property damage", or "environmental
damage" are caused by a "pollution incident"

(a) on or from a "designated well site" in the
"coverage territory", and

(b) that begins and ends within 72 hours of the incident; and

(c) that is accidental; and

(d) that is reported within 90 days of the incident

(2) The
"bodily injury", "property damage", or "environmental
damage" first occurs during the policy period[.]

The
court agreed that produced fluid waste was a pollutant for the purpose of the
policies’ respective pollution exclusions.Bear Products nevertheless contended that at the very least, coverage
was available under the primary policy’s pollution buy-back endorsement.The court disagreed.Looking to the allegations of the complaint,
the court observed that the conditions necessary to trigger the pollution
coverage under the buy-back were not satisfied.Notably, the waste was alleged to have been generated and disposed of
prior to the policy period, the pollution condition lasted more than 72 hours,
and the pollution condition was not accidentally generated.Bear Products argued that if strictly
enforced, the buy-back would be rendered illusory, since the majority of
pollution incidents for which it could be liable would not satisfy these
conditions precedent to coverage.The
court rejected this argument, explaining:

… Bear is a corporate
business. It bargained for an exception to the pollution exclusion. Bear is entitled
only to the coverage for which it negotiated and paid. Bear argues that read
literally, the policies provide virtually no coverage for risks inherent to its
business. In fact, the policies do provide coverage for some risks inherent to Bear's
business. For example, the policies cover liability as a result of an
accidental spill of waste (a "pollution incident") or an accidental
collision of one of Bear's trucks with another vehicle, object or person.
Though it is unfortunate that the policies do not cover liability for pollution
as alleged in the Underlying Complaint, the court may not rewrite the policies.

Thursday, October 17, 2013

In its recent decision in Aguilar v. Gostischef, 2013 Cal.App. LEXIS 816 (Cal. App. 2d Dist.
Oct. 11, 2013), a California appellate court had occasion to consider whether a
claimant’s statutory settlement offer under California Code of Civil Procedure,
§998, knowingly made in excess of an insurer’s policy limits, could be
considered a “good faith” offer.

Section 998 of the California Code of Civil Procedure permits
a party to make an offer to settle and compromise a litigation. and establishes
consequences if the other side rejects the offer.Under such circumstances, if the party
rejecting the offer is unsuccessful in the litigation, or less successful than
the dollar amount of the offer, then the losing party may be obligated to pay a
certain portion of the other party’s costs.In order to be a valid §998 offer, it must be made in “good faith,”
meaning that settlement offer must be realistically
reasonable under the circumstances of the particular case.The Aguilar
decision addresses the issue of whether a claimant’s § 998 offer knowingly made
in excess of the defendant’s insurance policy limits could be made in good faith.

Aguilar and Gostischef were individuals involved in a motor
vehicle accident.Gostischef was insured
by Farmers Insurance Exchange (“Farmers”) under an auto liability policy with a
$100,000 combined single limit.Subsequent
to the accident, Aguilar's counsel wrote to Farmers three separate occasions
to obtain information on the policy limits for the express purpose of making a
settlement demand. The last letter to Farmers stated: “My client has asked to
know the policy limits so that he can make a policy limits demand and resolve
this case and move on with his life. Unfortunately, until and unless we are
advised of the limits in coverage, we are not able to make a policy limits
demand. He is, however, prepared to do so upon being advised of the
limits.Once again, we entreat you to
get permission from your insured to disclose the policy limits, provide them to
us in the form of a certified policy and declaration, so that we can then
immediately demand policy limits. Please favor us with a reply within the next
two weeks.” Farmers, however, did not
respond to any of these requests.

Given Farmers’ silence, Aguilar eventually brought suit
against Gostischef.Farmers then
advised Aguilar of the $100,000 policy limit and offered to pay its full policy
limit to settle the case.Gostischef
later made a § 998 offer to Aguilar in the same amount.Aguilar rejected both offers.Instead, his counsel wrote to Farmers and
advised that in light of Farmers’ failure to have previously disclosed the
limits, and to settle the claim on behalf of its insured, Farmers would be
liable for any judgment in excess of its policy’s limits.A month later, Aguilar made a section §998 offer
to settle in the amount of $700,000.Farmers again offer to pay $100,000 and this was rejected.

The case was tried, and Aguilar was ultimately awarded
$2,339,657.Aguilar then sought
$1,639,451.14 in costs from Farmers pursuant to §998.Farmers argued the §998 offer in the amount
of $700,000 was not made in good faith since Aguilar knew that the
policy limits were $100,000.The trial
court disagreed and awarded costs, on the basis that the offer was “realistically
reasonable under the circumstances.”Farmers
appealed, arguing that the offer could not have been made in good faith as
there was no reasonable expectation that it would be accepted, based on
plaintiff’s knowledge of the policy limits and defendant’s financial hardship.

The appellate court held that it was reasonable for Aguilar
to believe Farmers could have been liable for a judgment in excess of policy
limits, as case law supports the proposition that an insurer that refuses to
disclose its limits may be subject to excess judgment liability in certain
circumstances. Farmers further failed to
show any bad faith on plaintiff’s part; plaintiff had made its intention to
seek policy limits known to Farmers, and had made three requests to Farmers for
the information.As such, the court
agreed that Aguilar’s $700,000 demand was made in good faith and that Farmers
was liable for the costs awarded pursuant to §998.

Tuesday, October 15, 2013

In its recent decision in Prestige Properties, Inc. v. National
Builders and Contractors Ins. Co., 2013 U.S. Dist. LEXIS 146738 (S.D. Miss.
Oct. 10, 2013), the United States District Court for the Southern District of
Mississippi had occasion to consider the application of a total pollution
exclusion in a general liability policy to underlying claims involving Chinese-manufactured
drywall.

The insured, Prestige Properties,
was a Mississippi contractor hired to perform repairs on a client’s home that
had been damaged as a result of Hurricane Katrina.Part of these repairs involved replacing damaged
drywall. Prestige later was named as a defendant in the Chinese drywall
multidistrict litigation pending in the Eastern District of Louisiana.Prestige’s client alleged that Prestige had
used defective Chinese manufactured drywall in their home and that the drywall
resulted in bodily injury (eye irritation, nausea, respiratory ailments, etc.)
and property damage (corrosion and damage to appliances, wiring and object with
metal surfaces).

Prestige was insured for the
relevant time period under a commercial general liability policy issued by
National Builders.National Builders
disclaimed coverage to Prestige on the basis of its policy’s total pollution
exclusion barring coverage for:

f. Pollution.

(1)"Bodily
injury" or "property damage" which would not have occurred in
whole or in part but for the actual, alleged or threatened discharge,
dispersal, seepage, migration, release or escape of "pollutants" at
any time.

(2)Any
loss, cost or expense arising out of any:

(a)Request, demand, order or statutory or regulatory
requirement that any insured or others test for, monitor, clean up, remove,
contain, treat, detoxify or neutralize, or in any way respond to, or assess the
effects of "pollutants"; or

(b)Claim or suit by or on behalf of
a governmental authority for damages because of testing for, monitoring,
cleaning up, removing, containing, treating, detoxifying or neutralizing, or in
any way responding to, or assessing the effects of, "pollutants."

On motion for summary judgment, National Builders pointed
out that the underlying suit alleged that the drywall was defective in that it
emitted various sulfide and other noxious gases through off-gassing.These allegations, argued National Builders,
fell squarely within the terms of the exclusion.While no Mississippi court considered the
application of the exclusion on similar facts (i.e., to releases of gas
indoors), National Builders cited to case law from other jurisdictions holding
the exclusion applicable to indoor air quality claims.National Builders also cited to case law from
other jurisdictions holding the exclusion applicable to Chinese drywall
claims.See, e.g., Evanston Ins. Co. v. Germano, 514 F. App'x 362 (4th Cir.
2013), TravCo Ins. Co. v. Ward, 284
Va. 547, 736 S.E.2d 321 (Va. 2012); Granite
State Ins. Co. v. American Bldg. Materials, Inc., 504 F. App'x 815 (11th
Cir. 2013).Prestige, on the other hand,
cited to the decision in In re Chinese
Manufactured Drywall Prods. Liab. Litig., 759 F. Supp. 2d 822 (E.D. La.
2010), in which the Eastern District of Louisiana, applying Louisiana law on
the pollution exclusion, including the seminal decision in Doerr v. Mobil Oil Corp., 774 So. 2d 119 (La. 2000), held the
exclusion inapplicable to Chinese drywall claims.

The Prestige
court distinguished the holding in In re
Chinese Manufactured Drywall Prods. Liab. Litig. on the basis that the
Louisiana court was considering coverage under homeowners policies rather than
commercial general liability policies.The Prestige court further reasoned that Mississippi’s Supreme Court
would not follow the restrictive application of the pollution exclusion as set
forth by Louisiana’s highest court in Doerr,
but instead would apply the exclusion pursuant to its “plain terms.”In other words, no distinction would be drawn
between traditional and non-traditional environmental pollution.As such, the court granted summary judgment
in National Builder’s favor.

Friday, October 11, 2013

In
its recent decision in Vermont Mut. Ins.
Co. v. Zamsky, 2013 U.S. App. LEXIS 20569 (1st Cir. Oct. 9,
2013), the United States Court of Appeals for the First Circuit, applying
Massachusetts law, had occasion to consider the applicability of exclusions in
homeowners policies limiting coverage to insured locations.

The
underlying loss arose out of a fire at what appears to have been a summer home which
was owned by the insured but not identified in the insured’s homeowner’s policy
as an “insured location.”The insured’s
daughter and several of her friends went to the house and while there tried to
light a fire in a portable fire pit.Gasoline was introduced to the fire, resulting in a large flash of
flames that caused severe burns to three of the individuals present.Suit was later brought against the insured,
and the matter was tendered to the insured’s homeowner’s insurers: two primary
insurers and an umbrella insurer.The
carriers agreed to provide the insured with a defense, subject to a reservation
of rights to deny coverage based on what the court described as a “UL”
exclusion (presumable uninsured location), precluding coverage for bodily
injury:

e. Arising out of a premises:

(1) Owned by an
"insured";

(2) Rented to an
"insured"; or

(3) Rented to
others by an "insured";

that is not an "insured location" . . .

The
coverage dispute eventually resulted in litigation, and on motion for summary
judgment, the United States District Court for the District of Massachusetts
held that the exclusion was inapplicable because the fire did not result from a
condition inherent to summer home.

On
appeal, the First Circuit observed the lack of any decisions by Massachusetts’
highest court – the Supreme Judicial Court – construing the UL exclusion.The court nevertheless found instructive two decisions
from the Massachusetts Appeals Court in Callahan
v. Quincy Mutual Fire Insurance Co., 736 N.E.2d 857 (Mass. App. Ct. 2000)
and Commerce Insurance Co. v. Theodore,
841 N.E.2d 281 (Mass. App. Ct. 2006).In the Callahan
decision, the Appeals Court held the exclusion inapplicable to a dog bite that
happened at location owned by the insured, but not otherwise an “insured
location,” because the dog was not a condition of the premises.In Theodore,
the Appeals Court held the exclusion applicable where a third party was on a
premises owned by the insured, but not an “insured location,” to perform repair
work on the premises.Under such
circumstances, the injury happened because of a condition inherent to the
premises, and as such, the injury could be considered to have arisen out of the
non-insured location.

The
First Circuit reasoned that the Callahan
and Theodore cases stand for the
general principal that the phrase “arising out of a premises” as used in the UL
exclusion means arising out of a condition
of the premises.As the court explained:

... the cases establish a dichotomy: if the covered occurrence
arises out of a condition of the premises and the exclusion's other
requirements are satisfied, the exclusion applies; otherwise, it does not.

The
court further noted that this reading of the exclusion comported with case law
from other jurisdictions, such as Louisiana and Ohio.

With
this rule in mind, the court agreed that the exclusion was inapplicable to the
underlying burn case because the fire was not caused by a condition of the
premises.Rather, the fire arose out of
the use of the fire pit.Because the
fire pit was a portable device that was not inherently a part of the premises, and
could not be considered a defect in the premises, there simply was not a
sufficient connection between the home and the fire as required for the
exclusion to apply.

Tuesday, October 8, 2013

In its recent decision in Universal American Corp. v. National Union
Fire Ins. Co. of Pittsburg, PA, 2013 N.Y. App. Div. LEXIS 6278 (N.Y. 1st
Dep’t Oct. 1, 2013), the New York Appellate Division, First Department, had
occasion to consider the scope of coverage afforded under a computer systems
fraud endorsement to a financial institution bond.

National Union’s insured, Universal,
is a health insurance company that offers a number of products, including
Medicare Advantage Private Fee-For-Service (MA-PFFS) plans, which are
government-regulated alternatives to Medicare. Universal processes payments for
medical services received by MA-PFFS plan members through its computer system
on which medical service providers enter claim information directly.Payments are thereafter made by Universal without
manual review.

National Union issued a financial
institution bond to Universal with a rider titled “Computer Systems Fraud,”
which provides indemnification for:

Loss resulting
directly from a fraudulent

(1)entry
of Electronic Data or Computer Program into, or

(2)change of Electronic Data or Computer Program
within the Insured's proprietary Computer System...provided that the entry or
change causes

(a)Property to be transferred, paid or delivered,

(b)an
account of the Insured, or of its customer, to be added, deleted, debited or
credited, or

(c)an unauthorized account or a fictitious account to
be debited or credited.

Universal claimed to have
suffered some $18 million in losses from fraudulent claims made by providers a
variety of different schemes.Universal
claimed that some 80% of the losses it experienced resulted from claims
submitted through its computer system, i.e., where providers entered false
information onto Universal’s billing system, and that these losses should be
indemnified pursuant to the Computer Systems Fraud coverage.

On motion for summary judgment at
the trial court level, Universal argued that the rider extended coverage to any loss resulting from the fraudulent
entry of electronic data into its own computer system, regardless of whether
the provider entering the claim data was authorizes to access the system.National Union, on the other hand, argued
that the rider extended coverage only to unauthorized use of Universal’s
computer system, i.e., manipulation of computer data by hackers.The trial court agreed with National Union,
concluding that the rider’s coverage is directed at misuse or manipulation of
Universal’s system rather than situations involving fraudulent submission of
claims where the system is otherwise “properly utilized.”

On appeal, the Appellate Division
agreed that the trial court properly interpreted the rider’s scope of coverage,
reasoning that the “unambiguous plain meaning” of the rider is to “apply to
wrongful acts in the manipulation of the computer system, i.e., by hackers,”
and that coverage was not intended to apply to claims by “bona fide doctors and
other health care providers,” who were authorized users of Universal’s billing
system.Thus, regardless of the fact
that these providers were submitting fraudulent bills, the fact that they were
authorized to use the system in the first instance precluded coverage under the
National Union bond.

Friday, October 4, 2013

In
its recent decision in Stewart Title
Guar. Co. v. Sterling Sav. Bank, 2013 Wash. LEXIS 769 (Wash. Oct. 3, 2013),
the Supreme Court of Washington had occasion to consider whether an insurer can
pursue a malpractice action against counsel in connection with its defense of
an insured.

Stewart Title Guaranty
Company, a title insurer, retained the law firm of Witherspoon, Kelley,
Davenport & Toole PS to represent its insured, Sterling Savings Bank, in
connection with an underlying lien priority action.The matter was decided against Sterling
Savings. Stewart Title later filed a malpractice action against the Witherspoon
firm for its failure to have asserted the affirmative defense of equitable
subrogation.Weatherspoon argued, on
motion for summary judgment, that Sterling Savings – rather than Stewart Title
– was its client, and that as such, it owed no duty to Stewart Title that would
permit such a malpractice claim.Witherspoon argued in the alternative that even if Stewart Title could
bring such a claim, it did not commit malpractice since the equitable
subrogation theory would have been unsuccessful.The trial court held that Witherspoon did, in
fact, owe a professional duty to Stewart Title, but it nevertheless held in
Witherspoon’s favor on the issue of whether it breached the duty by failing to
assert the equitable subrogation defense.

On appeal, the Supreme Court
of Washington affirmed the grant of summary judgment in Witherspoon’s favor,
but on a different rationale than applied by the trial court.Specifically, the court reasoned that
Witherspoon owed no professional duty to Stewart Title in the first
instance.While the court acknowledged
the issue of whether an insurer can sue defense counsel for malpractice was one
of first impression, it found guidance on the issue from its prior decision in Trask v. Butler, 872 P.2d 1080
(1994).In Trask, the court set forth several factors to be considered in
whether an attorney may be liable for malpractice to a nonclient, the most
significant factor being “[t]he extent to which the transaction was intended to
benefit the plaintiff [that is, the third party suing the attorney].”

The trial court had concluded
that Stewart Title was the intended beneficiary of Witherspoon’s legal services
on two grounds: (1) an alignment of interests between Stewart Title and Sterling
Savings in having the underlying claim dismissed and (2) a contractual duty existed
in favor of Stewart Title as a result of Witherspoon’s obligation to provide
reporting on the underlying litigation.The Supreme Court of Washington, however, rejected the notion that
either factor was determinative of this issue.While the court agreed that both Stewart Title and its insured had a
shared interest in the outcome of the underlying litigation, this was not
sufficient to demonstrate that Stewart Title was the clear intended beneficiary
of Witherspoon’s representation.The
court further rejected the notion that Witherspoon’s reporting obligations
evidenced Stewart Title’s role as the intended beneficiary, explaining that:

An attorney hired to represent a client by a third party payor
may generally, as part of the terms of the retention, have a duty to keep the
payor informed (within the bounds of the attorney-client privilege and the duty
of confidentiality). But such a limited duty to inform the nonclient third
party payor does not give rise to a broad duty of care that would support a
malpractice claim by the third party payor. It does not create that separate
duty of care for the same reasons that the client's and nonclient payor's
alignment of interests does not create such a separate duty: first, because
acceptance of a duty to inform a nonclient third party payor does not show that
the attorney's representation was intended to benefit the third party payor, as
Trask requires; and second, because
an attorney cannot contract away his or her professional duty to "not
permit a person who . . . pays the lawyer to render legal services for another to
direct or regulate the lawyer's professional judgment in rendering such legal
services." RPC 5.4(c).

Thus,
while the court acknowledged that other jurisdictions, such as California and
Michigan, permit insurers to bring malpractice claims against defense counsel,
the Supreme Court of Washington concluded that such a claim is not cognizable
under Washington law.

Tuesday, October 1, 2013

In its recent decision in AXIS Surplus Lines Ins. Co. v. Halo Asset
Management, LLC, 2013 U.S. Dist. LEXIS 139065 (N.D. Tex. Sept. 27, 2013),
the United States District Court for the Northern District of Texas had
occasion to consider whether an underlying complaint alleged conduct falling
within the scope of coverage afforded under a miscellaneous errors and
omissions policy.

AXIS insured Halo Management
under a professional liability policy, providing coverage for damages arising
out of Halo’s performance of “insured services,” a term defined by the policy
as:

Mortgage broker
services consisting of counseling, taking of applications, obtaining
verifications and appraisals, loan processing and origination services in
accordance with lender and investor guidelines and communicating with the
borrower and lender. Debt settlement and credit services including arbitration
and negotiations; real estate sales and brokerage services. …

While the policy was in force,
Halo was named as a defendant in a lawsuit regarding its participation in an
investment vehicle involving the purchase of at-risk residential mortgages for
repackaging as a new security.Halo was
to have processed and serviced the mortgages as part of this scheme.The claimant alleged, however, that the
underlying mortgages were never purchased and that his initial $5 million
investment was never returned. The
complaint alleged that Halo failed to perform due diligence on the entity that
was supposed to have purchased the mortgages, and that Halo failed to inform
the claimant that the mortgages, in fact, were not being purchased as intended.AXIS denied coverage to Halo on the basis
that the underlying complaint did not allege misconduct arising out of “insured
services.”

On motion for summary judgment,
AXIS argued that the underlying complaint did not involve any of the services
identified in the policy definition of “insured services,” and that definition
provides an “exhaustive definition” of the term.Halo, on the other hand, argued that by
employing the phrase “consisting of”
following the words “mortgage broker services,” the definition of “insured
services” was only intended to provide examples of covered professional
services.Halo further argued that the
non-legal definition of the term “broker” is broad and that as such, the concept
of “insured services” should be broadly construed.

The court rejected Halo’s reliance
on a lay dictionary, noting that Black’s Law Dictionary has a specific
definition of “mortgage broker,” which is an entity that markets mortgage loans
and brings lenders and borrowers together, but that does not originate or
service mortgage loans.The underlying
complaint, observed the court, related solely to Halo’s role in processing and
servicing loans that were to have been purchased by a third party.As such, the court concluded that:

The allegations
in the underlying action are fundamentally based on the Halo defendant's misuse
of the Claimant defendant's invested funds, not in mortgage broker services.
Taking the allegations in the petition as true, none of the funds even went to
purchase mortgages. The fact that the
proposed investment scheme was supposed to involve mortgages does not
overshadow the fact that the allegations ultimately stem from fraud and
misappropriation of funds.

Accordingly, the court agreed
that AXIS had no duty to defend the underlying complaint.The court, however, denied AXIS’ motion on
the duty to indemnify, noting that under Texas law, the duty to indemnify
cannot be determined based on the allegations in the complaint, but instead depended
on facts that would be considered at trial.